Deutsche Bank warns that credit spreads are at historical lows, consumer confidence has fallen to the lowest level since 1952, and the divergence between the bond market and stock market continues to widen, with multiple risk signals being selectively ignored by the market.

Written by: Zhao Ying

Source: Wall Street Insights

The strong rebound of U.S. stocks over the past two months is triggering historical alarms. The S&P 500 Index rose by 16% from April to May, a magnitude that has only occurred four times since World War II, three of which took place during the recovery phases following economic recessions, with the only non-recession precedent occurring months before the "Black Monday" crash in 1987.

Deutsche Bank macro strategist Henry Allen points out that the current rally is not occurring in the context of a recession recovery, making the historical comparison especially striking. At the same time, credit spreads remain at historical lows, but signs of stress on the consumer side are accumulating, expectations for Federal Reserve interest rate hikes are rising, and the divergence between the sovereign bond market and stock market continues to expand.

With multiple risk factors overlapping, market tail risks are unusually concentrated. Henry Allen wrote in the report, "The current distribution of tail risks is exceptionally pronounced, whether on a geopolitical level or a market level."

Rare Historical Precedent, Only This Example in a Non-Recession Context

The S&P 500 Index's 16% rise from April to May has only been seen four times since World War II.

Three of these occasions were strong rebounds following recessions: the recovery from the COVID-19 pandemic in April to May 2020, the rebound from the global financial crisis from March to April 2009, and the recovery following the first oil crisis from January to February 1975.

The fourth instance was from January to February 1987. At that time, it was only a few months before the "Black Monday" crash in October of that year—on that day, the S&P 500 plunged 20% in a single day.

Henry Allen emphasizes that the current rally has its fundamental supports, including a surge in artificial intelligence enthusiasm and strong economic data, but "the speed of the increase itself has surpassed all recent precedents." In an economy that has not yet emerged from a recession, such a rapid rebound has historically never ended well.

Moreover, the S&P 500 is on track to achieve a double-digit increase for the fourth consecutive year, a record that has not been seen since the late 1990s.

Credit Market Overly Optimistic, Consumer Pressure Signals Ignored

The strength of the stock market has also spread to the credit market. Current credit spreads in the U.S. and Europe are narrower than before the outbreak of the U.S.-Iran conflict, demonstrating the market's high tolerance for risk.

However, warning signs at the consumer level are accumulating. In April, the U.S. savings rate was only 2.6%, a level that has only been seen during two historical periods: a single month in 2022 (when the excess savings accumulated during the COVID-19 pandemic were being depleted) and just before the global financial crisis erupted. At the same time, the University of Michigan Consumer Confidence Index hit its lowest level on record in May since 1952.

The monetary policy environment is also tightening. The European Central Bank is widely expected to raise interest rates this month, and market bets on the Federal Reserve raising rates in 2026 are also rising—April's U.S. PCE inflation year-on-year reached 3.8%, supporting this expectation.

Henry Allen points out that historically, a hawkish stance from the Federal Reserve is often accompanied by widening credit spreads, as seen in 2022, late 2018, and from 2015 to 2016. The current calm in the credit market stands in stark contrast to this historical trend.

Bond Market Under Pressure, Divergence from Stock Market Continues to Widen

While the stock market and credit market demonstrate a high immunity to geopolitical risks, the sovereign bond market has taken a markedly different path.

In the past month, the yield on the 10-year U.S. Treasury bond has closely tracked oil price fluctuations, distinctly decoupling from other asset classes. In mid-May, sovereign bond yields reached multi-year highs: the 30-year U.S. Treasury yield rose to 5.18%, the highest since 2007; the 10-year German bond yield rose to 3.19%, the highest since 2011.

At that time, the stock market was just a step away from its historical high, while bond yields were at levels not seen in over a decade. This divergence shows no signs of converging so far.

Henry Allen believes that the bond market more directly prices in inflation and fiscal risks and therefore reacts more sensitively to geopolitical shocks. The ongoing divergence between the stock and bond markets itself reflects a vulnerability in the current market.

Oil Prices Unexpectedly Stabilized, Becoming a Key Pillar for Risk Assets

The blockade of the Strait of Hormuz has lasted far longer than the market initially anticipated, but the response in oil prices has been surprisingly mild, which partially explains the resilience of risk assets.

When the U.S.-Iran conflict erupted on February 28, the White House initially expected the action to last 4 to 6 weeks. However, as of now, the Strait of Hormuz remains under blockade. Market forecasts from Polymarket indicate that the probability of restoring normal navigation by the end of June has plummeted from about 80% in mid-April to 22%.

Despite this, the oil futures curve remains relatively stable. Just two weeks after the conflict erupted on March 13, Brent crude oil six-month futures settled at $85.66 per barrel; on June 1, the contract quote was still around $84.88, nearly unchanged.

Henry Allen points out that it is precisely because the oil futures curve has not seen a significant upward shift that investors have not incorporated severe stagflation risks into pricing, thus avoiding a larger-scale sell-off of risk assets. However, he also warns that if the Strait of Hormuz remains blocked, the ability of this support to hold is still uncertain.